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FUNDAMENTAL ANALYSIS

Currency Wars and Big Moves

 

Fundamental Analysis Currency Wars

 

The first thing we would like to say is that we continue to believe that a global currency war is percolating. Central banks around the world remain very sensitive to currency strength and in some cases will try and weaken their currency through actual policies and in other cases through verbal commentary.

 

There is a basic problem that policymakers are struggling to deal with today. Debt remains staggeringly high and in most cases higher than it was during the last crisis. Economic growth remains sub-par and yet central banks are close to “tapped-out” and politicians mostly seem incapable of pursuing sensible fiscal policies. The risk is that when all other policies have failed, policymakers will aim for “beggar thy neighbour” policies including currency depreciation. Although the timing is uncertain, the potential for some big FX moves in the months ahead is very much present today.

 

Two weeks ago, we discussed the Euro in the wake of Draghi’s post ECB meeting comments that he is “comfortable” taking action at the June meeting to counteract too low inflation that is depressed by too strong a currency. At the close of trading that week the EUR/USD rate was at 1.3758 and we said “...it is time to be short the Euro not just against the US Dollar but against a number of currencies.”

 

What has somewhat surprised us over the intervening two weeks is the absolute lack of any bounce in the EUR/USD rate. This tells us two things. First, buyers are not being proactive in stepping forward and are waiting for the market to come to them. Second, anyone waiting to sell any bounce is being frustrated. The further EUR/USD falls, the greater the potential for selling to become more urgent as longs remain trapped and un-invested bears fear missing out on an emerging bearish trend in the Euro. We take the lack of any bounce during the last two weeks as another bearish signal for the Euro.

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